Friday, December 23, 2016

At the end of each year, I post Ten Economic Questions for the coming year. I followed up with a brief post on each question. The goal was to provide an overview of what I expected in 2016 (I don't have a crystal ball, but I think it helps to outline what I think will happen - and understand - and change my mind, when the outlook is wrong).

Here is a review. I've linked to my posts from the beginning of the year, with a brief excerpt and a few comments:

Right now my guess is active inventory will increase in 2016 (inventory will decline seasonally in December and January, but I expect to see inventory up again year-over-year in 2016). I don't expect a double digit surge in inventory, but maybe a mid-single digit increase year-over-year. If correct, this will keep house price increases down in 2015 (probably lower than the 5% or so gains in 2014 and 2015).

According to the November NAR report on existing home sales, inventory was down 9.3% year-over-year in August, and the months-of-supply was at 4.0 months. It is clear inventory will decrease in 2016. Note: I changed my view on inventory early this year (one of the key reasons for writing down expectations - so we can change our views when the data is different than expected).

Two of the key reasons inventory is low: 1) A large number of single family home and condos were converted to rental units. Last year, housing economist Tom Lawler estimated there were 17.5 million renter occupied single family homes in the U.S., up from 10.7 million in 2000. Many of these houses were purchased by investors, and rents have increased substantially, and the investors are not selling (even though prices have increased too). Most of these rental conversions were at the lower end, and that is limiting the supply for first time buyers. 2) Baby boomers are aging in place (people tend to downsize when they are 75 or 80, in another 10 to 20 years for the boomers). Instead we are seeing a surge in home improvement spending, and this is also limiting supply.

Low inventories, and a decent economy suggests further price increases in 2016. However I expect we will see prices up less in 2016, than in 2015, as measured by these house price indexes - mostly because I expect more inventory.

It is early, but the recently released Case-Shiller data showed prices up 5.5% year-over-year in September. The price increase is slightly higher than in 2015 (prices were up 5.25% nationally in 2015), probably due to less inventory.

My guess is growth of around 4% to 8% in 2016 for new home sales, and about the same percentage growth for housing starts. Also I think the mix between multi-family and single family starts will shift a little more towards single family in 2016.

Through November, starts were up 4.8% year-over-year compared to the same period in 2015. New home sales were up 12.7% year-over-year. Starts will increase as expected; new home sales will be higher than I expected.

It is impossible to predict an international supply disruption, however if a significant disruption happens, then prices will move higher. Continued weakness in Europe and China seems likely, however sluggish demand will be somewhat offset by less tight oil production. It seems like the key oil producers (Saudi, etc) will continue production at current levels. This suggests in the short run (2016) that prices will stay low, but probably move up a little in 2016. I'll guess WTI will be up from the current price [WTI at $38 per barrel] by December 2016 (but still under $50 per barrel).

As of this morning, WTI futures are at $52.85 per barrel. Prices moved up as expected, but are a little above $50.

For this post the key point is that nominal wages have been only increasing about 2% per year with some pickup in 2015. As the labor market continues to tighten, we should start see more wage pressure as companies have to compete more for employees. I expect to see some further increase in nominal wage increases in 2016 (perhaps over 3% later in the year). The year-over-year change in real wages will depend on inflation, and I expect headline CPI to pickup some this year as the impact on headline inflation of declining oil prices fades.

Through November, nominal hourly wages were up 2.5% year-over-year. This is a pickup from last year - and wage growth appears to be trending up. Wages will increase at a faster rate in 2016 than in 2015.

I've seen several people arguing the Fed will be cutting rates by the end of 2016 - I think that is unlikely. Instead I think the Fed will be cautious - and they will not want to reverse course. Right now I think something around three rate hikes in 2016 is likely.

Events have pushed the Fed to delay rate increases, and the Fed only hiked once in 2016.

Depending on the estimate for the participation rate and job growth (next question), it appears the unemployment rate will decline to around 4.5% by December 2016. My guess is based on the participation rate declining slightly in 2016 and for decent job growth in 2016 (however less in 2016 than in 2015).

The unemployment rate was 4.6% in November, down from 5.0% in December 2015.

Energy related construction hiring will decline in 2016, but I expect other areas of construction to be solid. For manufacturing, growth in the auto sector will probably slow this year, but the drag on manufacturing employment from the strong dollar should be less in 2016.

As I mentioned above, in addition to layoffs in the energy sector, exporters will have a difficult year - but probably not the severe contraction as in 2015, and more companies will have difficulty finding qualified candidates. Even with some boost from lower oil prices - and some additional public hiring, I expect total jobs added to be lower in 2016 than in 2015.

So my forecast is for gains of around 200,000 payroll jobs per month in 2015. Lower than in 2015, but another solid year for employment gains given current demographics.

Through November 2016, the economy has added almost 2 million jobs; or 180,000 per month. It now appears employment gains will be lower than in 2015 (as expected).200,000 per month in 2016.

In addition, the sharp decline in oil prices should be a net positive for the US economy in 2016. And, hopefully, the negative impact from the strong dollar will fade in 2016.

The most likely growth rate is in the mid-2% range again ...

GDP growth was sluggish again in the first half (just up 1.1% annualized), and solid in Q3. GDP is now tracking 2.5% in Q4. This would be GDP growth just over 2% from Q4 2015 to Q4 2016.

In general, 2016 unfolded as expected with some key exceptions (one of the reasons I write down what I think will happen). I changed my view on Fed rate hikes earlier this year to just one hike. And existing home inventory is declined again this year.

Residential investment, oil prices, inflation, wage growth and employment were about as I expected.